In our last lesson we wrapped up our discussion on the different order types available to forex traders with a look at the Entry order. In today’s lesson we are going to continue our discussion on the logistics of forex with a look at something which is known as rollover.
What you are actually trading in the forex market is a contract which requires one currency to be exchanged for another and delivered in two business days. For example, if I buy 1 contract of EUR/JPY then I am buying 100,000 worth of Euros and selling the equivalent amount of Japanese Yen. This technically requires me to deliver the equivalent amount of Japanese Yen portion of the trade to the bank account of the party I am trading with. The party that I am trading with is then technically required to deliver the 100,000 EUR portion of the trade to my bank account in two business days.
As we are trading simply for speculation however, we do not want actual physical delivery of the currency, so the platform which we are using in our examples, and pretty much any other retail forex trading platform, will automatically role this position over to the next delivery date if the position is held past 5pm Eastern Standard Time.
It is not really important to understand all the details here as this part is done automatically. What it is important to understand however is that there is a US Dollar debit or credit made to your account for any position held past 5pm Eastern Time, to account for the interest portion of the transaction.
As with most other transactions which involve holding or borrowing money, trading currencies also involves an interest payment or credit depending on whether you are the holder of a currency or the borrower of a currency.
What this means is that if I buy USD/JPY which means I have bought US Dollars and sold Japanese Yen, then I earn interest on the US Dollars I have bought and pay interest on the Japanese Yen that I have sold in order to buy those US Dollars. The reason for this is technically what I am doing when I sell a currency, is borrowing that currency and then exchanging the borrowed currency for the equivalent amount of the currency that I am buying.
I am oversimplifying things a bit here but basically the interest rates that you pay and receive on the currencies involved in the trade, is two days worth of interest derived from the overnight interest rates of the countries whose currencies you are trading.
If you remember from module 8 of our basics of trading course in the free course section of InformedTrades.com, overnight interest rates in the United States for US Dollars are set by the Federal Reserve. Just as the United States has the Federal Reserve, other countries around the world also have central banks which set the overnight rates for their currencies.
When trading forex if you buy the currency with the higher interest rate and sell the currency with the lower interest rate, then you earn money for holding a trade past 5pm when rollover occurs, because the interest rate differential is in your favor. Conversely if you sell the currency with the higher interest rate and buy the currency with the lower interest rate then you pay interest if you hold the trade past 5pm, because the interest rate differential is not in your favor. If you open and close the position before 5pm then nothing happens as there is no rollovernecessary.
As noted above we are trading a 2 day contract in the forex market, so the interest that you either pay or receive at rollover is 2 days worth of interest, calculated based on the interest rates as set by the central banks in the countries of the currency pairs which you are trading.
Using our USD/JPY trade as an example, overnight interest rates in the United States are at 2.25% as of this lesson, and rates in Japan are at .5%.
As you can see here when we are trading the USD/JPY currency pair, if we buy then we are long (holding) US Dollars at an interest rate of 2.25% and we are short (borrowed) Japanese Yen at an interest rate of .5%. So in this example the interest rate differential is in our favor by 1.75%, so we will earn interest if we hold this position past 5pm NY Time.
If we were to sell the USD/JPY then we are short (borrowing) US Dollars at an interest rate of 2.25% and long (holding) JPY at an interest rate of .5%. So in this case the interest rate differential is against us by 1.75% so we will pay interest if we hold this position past 5pm NY Time.
I have tried to make this as simple as possible but to be upfront this is probably the most difficult concept for traders who are new to the forex
Thats our lesson for today. In tomorrow's lesson we are going to continue our rollover discussion with a look at where you go to find out whether you are going to pay or receive money for holding positions past rollover and the basics of how traders leverage this rollover concept to their advantage so we hope to see you in that lesson.
As always if you have any questions or comments please leave them in the comments section below, and good luck with your trading! market to grasp, so if it takes a little bit of time don't worry you are not alone.
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WEEKLY Forex Economic Calendar: 28 Mar Tue
14:00 US- CB Confidence 29 Mar Wed
14:00 US- Pending Homes Sales
14:30 US- EIA Crude 30 Mar Thu
12:30 US- Weekly Jobless
12:30 US- GDP
23:30 JP- CPI 31 Mar Fri
7:55 DE- Jobless
8:30 GB- GDP
9:00 EZ- flash HICP
12:30 US- Core PCE Deflator
14:00 US- final Univ of Mich 2 Apr Sun
00:00 AU/NZ- Clocks "Fall Back"
Forex Market: items driving the market to start the new week:
Event Risk: The fallout from Heathcare fiasco last Friday has started to abate. The new focus is worry about the Trump economic agenda with getting legislative approval a growing issue.
Event Risk: A new Scotland Independence referendum will be considered by the Scottish Parliament today, while the May government will invoke EU Article 50 tomorrow (March 29). Last week's terrorist event could strengthen her hand.
There is a growing perception that the ECB might start to consider stepping back from excessive policy ease. Watch flash HICP data Friday. The March German Ifo Survey (Monday) was considerably stronger than expected and will be noted by the ECB.
Lots to consider. Please comment...
John M. Bland, MBA co-founding Partner, Global-View.com
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Forex chart points are in a currency trading table that includes; latest fx tradinghigh-low-close range, Bollinger Bands, Fibonacci retracement levels, daily forex pivot points support and resistance levels, average daily forex range, MACD for the different currency trading pairs. You can look on the forex forum for updates when one of the fx trading tools is updated.
Global-View also offers a full fx trading chart gallery that includes fx pairs, such as the EURUSD, commodities, stocks and bonds. In a fx trading world where markets are integrated, the chart gallery is a valuable trading tool. Look for updates on the Forex Forum when the chart gallery is updated.
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